Payroll cycle

Internal controls

Material: Jackson & Stent pp. 13/2 to

13/36
Introduction
• Characteristics of the cycle
• A major expense for many companies
• E.g.:
• Shoprite Group (2016): turnover R130bn, gross profit R27bn, employee expense R9.5bn
• Pick ‘n Pay (2016): turnover R73bn, gross profit R13bn, employee expense R6bn
• May involve cash
• Some small businesses pay employees using cash – robbery risk
• Susceptibility to fraud
• In particular:
• Fictitious employees (“ghost workers”)
• Extra hours recorded for real employees

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Introduction (continued)
• The SA ghost worker problem in the civil service (1997)
• Particularly the Northern Province, Eastern Cape and KwaZulu-Natal
• Estimated 47,000 ghost workers
• Annual loss R5bn

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Introduction (continued)
• Application of control techniques to this cycle
• Competent, trustworthy staff important
• Segregation
• To prevent the “creator” of fictitious staff or extra hours from getting to the resulting
wages (or a portion thereof)
• Isolation of responsibility
• Signing when documents and cash are handed from person to person
• Custody controls
• Over relevant stationery and cash
• Reconciliation and comparison (and follow-up)
• In particular current and previous weeks’ wages

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Internal control objectives – Financial
Reporting
Validity
All payroll transactions are authorised according to the general and specific policies of
management.
All payroll transactions are valid (actually occurred) and are supported by sufficient
documentation and evidence (documentation = eg contract of employment).
Accuracy
Salaries and wages using the correct hours and rate and arithmetically correct (paying
employees at the correct rate of pay for the correct number of hours)
Also correctness of deductions (PAYE & UIF as per SARS; Medical Aid & Pension Fund as per
agreement)
Payroll transactions are recorded correctly
Payroll transactions are correctly classified in the accounting records.
Completeness
All valid payroll transactions are recorded and no transactions are omitted.
All payroll transactions are recorded timeously in the correct financial period to which
they relate.
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Exam Technique
Read required carefully – can be asked:
- Design system
- Evaluate the effectiveness of internal control system
o Identify both positive and negative controls
- Identify weaknesses and related risk
o Must link weakness to risk. Risk is the consequence of weakness ie. Sale
transaction will not be VAC.
- Identify weaknesses, related risks and recommend
o Recommend improvements to existing controls or new controls
Where possible use tabular format
Therefore, you must have a picture of the “ideal system”.
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Documents used in the cycle
• Employment contracts / employee file
• Payroll amendment form
• List of employees
• Clockcard
• Batch control sheet & batch register
• Deduction tables & returns
• Payroll (wage journal)
• Paypackets/payslip/salary advice
• Unclaimed wage register
• Wage reconciliation
• Logs, variance reports etc

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Functions in the cycle
1. Appointments
2. Time recording
3. Payroll preparation
4. Payment preparation and payout
5. Payment and recording

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Overview of the cycle

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1. Appointments
• The request for appointment should come from the department that
wants a staff member
• Should be signed by the department head and the department finance
manager (after referring to the budget)
• Changes in terms of service (promotions, pay hikes etc) should be
made by the HR department after proper consultation
• Should be documented properly
• Amendments due to the above should be recorded on payroll
amendment forms (PAFs)
• Should be cross-referenced to supporting documents
• Should be authorised by a senior person in HR

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1. Appointments (continued)
• Sound appointment practices should be followed (interviews,
background checks)
• A file should be kept for each employee
• Containing the contract, performance appraisals, disciplinary warnings,
personal details, PAFs, etc.
• Preprinted, sequenced clockcards to be prepared
• Strict stationery controls over blan11k clockcards

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2. Time recording
• Clock machines should be located at entrances to the premises
• There should be limited entry and exit points
• Should be supervised during clocking periods
• Clock cards should be prepared by HR, in accordance with an authorised
employee list
• A senior admin clerk should collect the cards at the end of the working
week
• Agree number of cards to list of employees in the section
• Calculate normal time and overtime
• Record in batch control sheet
• The cards should be checked and signed by the department head
• Check calculations and authorize overtime

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3. Payroll preparation
• A wage clerk should:
• Calculate the wage payable to each worker (time x wage rate)
• Print the payroll
• Prepare a coinage analysis
• Deductions
• Sign the payroll
• Do a reconciliation with the prior week’s payroll (why is the current’s week
wage different to previous week’s – dismissals; new hires; more hours worked
etc)
• The above should be checked and signed by a second clerk (“PPQ
ADT”)

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3. Payroll preparation (continued)
• The head of the payroll department should review and sign the
payroll
• The wages cheque / EFT requisition and payroll should then be
presented to the signatories
• Review payroll for unusual items eg large amounts, excessive O/T
• Inspect for presence of control signatures
• Sign the cheque / authorize and release the EFT payment

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4. Payment preparation and payout
• Security very important
• During collection of the cash
• While the wage envelopes are being made up
• During the payout
• Storage of cash in between the above steps
• Each person receiving cash should sign for receipt thereof
• Two people should make up the wage packets
• The paymaster and foreman should handle the payout (segregation of
duties – cannot be the same person who has custody function)

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4. Payment preparation and payout
(continued)
• Workers must identify themselves, and sign for receipt
• Should not be allowed to collect for another employee
• Best if they check the amount right away
• Proper controls over unclaimed wages
• Reconcile unclaimed wages register – physical pay pockets vs records
• Review unusual occurrences – eg frequent unclaimed wages for the same
employees or section
• Employees collecting their unclaimed wages to identify themselves & sign
• Unclaimed wages to be banked, deposit slip attached to the unclaimed wages
register to allow reconciliations

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5. Payment and recording
• Strict monthly schedule
• Posting entries to raise the liabilities for the deductions
• Making payments on a timeous basis
• Supervisory checks on the above
• Payroll and return forms should be presented to signatories
• Before signing cheque / authorising and releasing EFT payment they shuld
check the returns for accuracy – deductions correct and filled in correctly?
• Scrutiny of the GL accounts for deductions to confirm they are
promptly cleared

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Computerization in the Cycle
• Access
Access to the employee masterfile will have to be controlled based on
the least privileged principle i.e User IDs and Passwords
Only the employees who need to use the payroll application should
have access to it
• Screen aids and programme checks
These controls techniques will ensure that payroll Transactions
processed actually occurred, were authorised and are accurately and
completely recorded.

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continuation
• Logs and Reports
These will be produced by the system and will be used as detective
controls or for monitoring performance.
e.g a log of employee masterfile changes should be produced by the
system.
• Matching and minimum entry
Once data is in the database then other data can be matched against it
e.g an employee number when entered can be matched against the
masterfile to determine whether it is a valid employee number.

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The Employee masterfile
• Should be recorded on a hard copy amendment form sequentially
numbered
• The MAFs should signed by two senior employees e.g Human
resource manager and head of the section where the employee works
• Access restricted by use of user IDs and passwords
• Amendments should be logged on sequenced logs
• Screen aids and program checks
Screen looks like hardcopy, tax number used as mandatory field
• Logs should be reviewed
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continuation
Financial director should review the logs
Sequenced checked
The details, e.g. identity number, banking details, are correct
The MAF sequenced checked against the logs

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Timekeeping linked to the computerized
system
• The employee is required to swipe his/her identification tag or put his
finger in an electronic timing device
• This means finger prints for each employee will be stored on the
masterfle
• When the employee presses the device records the time of entry and
exit against the employee
• Access to the to the module which records data should be strictly
controlled and assigned to HR department
• Controls around Entry and exit points apply
• Supervisors should review attendance by making use of the timing
device to access information. 22
Payroll preparation

• Approval of hours worked

A schedule of normal and overtime hours should be printed weekly and
presented to the foreman for review and approval.
The foreman confirm that overtime hours worked were actually
approved, make alterations to the schedule and sign it
• Entering addition earnings and deductions
The payroll clerk will gain access to the payroll application by use of ID
and passwords
Hours will be imported from the timekeeping device and the payroll
application will automatically calculate hours for each employee
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Processing to create the payroll
• Actual processing will be carried out by the computer with no human
intervention
• Additional controls such as reasonableness checks etc can be
implemented

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Approval of the payroll

• The payroll along with supporting schedules will b produced to the

payroll administrator for approval
• The payroll administrator will gain access to the module using ID and
password
• After reviewing will approval the payroll online and he should not
have write access to the module
• Any changes should be referred back to the payroll clerk

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Payment via EFT
• Refer to EFT controls

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